Making Pay-Go Pay Off

Rules governing how Congress writes tax and entitlement
legislation (known as pay-go, for pay-as-you-go) are to be extended
under the recent budget agreement between President Bill Clinton
and congressional leaders. The current rule makes tax cuts more
difficult than necessary and fails to limit discretionary spending.
Before extending pay-go in the reconciliation process, Congress
should address these flaws.

House Budget Committee Chairman John Kasich (R-OH) has
recommended altering pay-go to eliminate the bias against tax cuts.
Expanding it to cover discretionary spending would achieve that
goal, help control spending, begin to refocus the budget process on
limiting spending and taxes rather than on balancing the budget
without regard to the size of government, and help ensure that the
budget really is balanced in 2002.

How Pay-Go Works The pay-go rule applies to legislation to cut taxes and laws
to increase entitlement spending. New or expanded entitlements
(benefits for a class of people) must be paid for either through
limits on existing entitlements or through higher taxes. Tax cuts
are prohibited unless other taxes are raised to maintain projected
revenue, or unless planned entitlement spending is reduced by a
corresponding amount.

The rule was intended to prevent lawmakers from voting for
politically popular measures without addressing their effect on the
deficit, but it has had little practical effect on entitlement
legislation because there is a political consensus that
entitlements need to be restrained. It does make it far more
difficult, however, to cut taxes and, by restricting certain
deficit calculations to tax and entitlement categories, encourages
Congress to increase discretionary spending (funds appropriated
each year to operate the government) by raising the deficit.

It was the pay-go rule that set Congress up for the charge that
it was cutting Medicare to fund a tax cut for the rich, by
requiring that tax cuts be combined with limits on entitlement
spending. No matter how much Congress cut the deficit by reducing
discretionary spending, the iron link between taxes and
entitlements made an attack on tax cuts mathematically plausible.
Entitlements and taxes were linked because budget negotiators did
not trust Congress to keep promises about future cuts in
discretionary spending; cuts that Congress had promised in several
budget agreements during the 1980s simply never materialized.

Spending Caps Congress can be disciplined to control discretionary spending,
however. If it exceeds the discretionary spending caps established
in law by the 1990 and 1993 budget agreements, an across-the-board
sequester reduces every discretionary account to remain within the
targeted level. Congress has observed these caps for seven years,
but this year's agreement would raise the last cap, set in 1993,
for spending next year. Discretionary spending restraint, properly
enforced, is the surest way to reduce the deficit; the deficit
effects of tax and entitlement changes are projected and often
uncertain, but savings from discretionary spending caps are
predictable and certain.

Under the current pay-go rule, Congress has little incentive to
limit discretionary spending. The goal of cutting the deficit is
honored in theory, but politicians tend to prefer spending or tax
cuts that are readily identifiable by voters. Thus, even
conservatives are tempted to raise spending rather than reduce the
deficit. But if Congress could balance tax cuts with discretionary
spending reductions, the congressional side in the recent budget
negotiations would have had reason to press for spending restraint
to fund pro-growth and family tax cuts; President Clinton would
have found it more difficult to balance his domestic spending
increases, including those for education, with proposed education
tax benefits; and both sides would have been encouraged to limit
discretionary spending to secure their tax goals.

Budget Agreements and Tax Reform Pay-go is to be extended for the five-year life of the current
budget agreement, but history indicates that the agreement is
likely to be renegotiated in two or three years. Thus, however it
is extended, the rule will have a major impact on future budget
negotiations. Perhaps more important, however, extending the
current rule for another five years would make it very difficult to
achieve fundamental tax reform. Because the economic results of
significant tax changes are difficult to predict, opponents will
insist on rates higher than those really needed to avoid increasing
the deficit. A pay-go rule that allows for discretionary spending
caps would give lawmakers more flexibility in reforming the tax
code while ensuring against higher deficits. Any gray areas in
revenue projections, for example, could be backed up by spending
cap reductions that kick in only if tax payments fail to meet
expected levels. The current pay-go rule would require entitlement
cuts instead.

Reform or Expand Pay-Go In The Wall Street Journal, Chairman Kasich recently
observed that the budget deal leaves open the exact form of the
pay-go extension, vowed to "push to allow tax cuts to be funded
through cuts in any program," and pointed out that he "wrote
legislation to that effect that was approved by the House in the
last Congress." An even better step would be to subject
discretionary spending to the pay-go rule as well. In addition to
providing greater flexibility in crafting tax cuts, this change
would prevent Congress from increasing discretionary spending by
increasing the deficit.

Critics complain that the 1997 budget deal allows for too much
growth in spending and that future Congresses will not make the
cuts promised to bring the budget into balance in 2002. Under
expanded pay-go, because Congress could not spend more than
currently planned unless it cut other categories of spending or
increased taxes, it would be far more likely to stick to the 1997
plan and balance the budget as promised.

The budget agreement commits congressional leaders to extending
the pay-go rule. Simply renewing the current law would make tax
cuts less attractive, discretionary spending increases more likely,
and fundamental tax reform more difficult. Expanding pay-go to
cover all parts of the budget would have the opposite effects. In
the interests of tax reform, spending restraint, and balanced
deficit reduction, pay-go should be expanded to include
discretionary as well as entitlement spending.

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